Consultants - Be Sure to Maintain Your IR35 Status

15 Jan 2016

You enjoy many benefits as a freelance consultant and no doubt you want to retain that status. Like most of us, you probably find admin tasks a bit tedious to say the least, and you may tend to drift off when somebody starts discussing bookkeeping accounts and tax matters!

However, IR35 is a potential minefield and it’s worth taking extra care to ensure you are compliant because the cost of non-compliance is a HMRC investigation and possibly fines, penalties and a bill for back tax owed.
IR35 was introduced in 2001 because the tax authorities perceived that freelancers were operating with the benefits of favourable tax rules for limited liability companies when, in, fact, they were no more than “disguised employees” doing the very same roles as their PAYE colleagues. The rules and interpretation of IR35 are not always clear-cut. In fact, many cases brought against contractors by HMRC have been thrown out because the courts ruled that the interpretation applied by HMRC itself was incorrect.

HMRC deem you to be “inside IR35” if you are indeed genuinely operating as a business. The onus is on you to provide proof that this is the case. Each contract represents a new engagement, which needs to be carefully constructed and checked to ensure compliance. Tact offers specialised IR35 compliance contract reviews for just this purpose.

To ensure you maintain your status as a consultant in the eyes of HMRC, here are the 5 key aspects you need to keep in mind whenever you start work with a new client:

Is your work is the same as permanent staff?

Degree of independence - Control

Employer’s IR35 history

Right of Substitution

Advised by non-specialists

Work is the same as permanent staff

This is probably the most obvious reason of all for failing the IR35 test. If a contractor is doing the same work, under the same conditions and management rules as regular employees, but operating as a limited company, then it demonstrates the very reason that IR35 was originally introduced. In the workplace, the employer should not treat you as just another employee. You are a consultant, and should be treated as such. You must never be seen as 'part and parcel' of the client’s organisation or management hierarchy. As part of an investigation, HMRC may interview the employer as happened in this case.

Degree of independence - Control

An essential element of proving that you are an independent consultant or contractor is how much freedom you have over controlling the hours you work, where you perform your tasks and what the employer can tell you to do. If you are simply delivering an agreed piece of work on-site with a deadline, then that is perfectly fine. If your employer can control the what, where how and when on a daily basis, or even one of those factors, then HMRC may deem your arrangement to be outside IR35. It is normal for contractors to have to attend the employer’s workplace to carry out the work. That in itself may not indicate a breach of IR35. However, if the employer can and does then ask you to do any work at all (as opposed to a defined delivery) it is obvious that you are not in control. There are many grey areas within the interpretation of control that can trip up the unwary and the unprepared. This article describes a case where the freelancer did not really have control, even though he believed he was operating as a business.

Employer’s IR35 history

It will come as no surprise to learn that HMRC will take into account any previous history of the employer engaging contractors who subsequently fell foul of IR35 rules. In fact, HMRC may decide that any contractor hired by such an employer is automatically considered to be working outside of IR35 and will be investigated. You need to know the employer’s background in this regard and perform appropriate due diligence. If in doubt, request confirmation in writing. No legitimate employer will object to writing a one-line letter to confirm that.

Right of Substitution

Can you send somebody else to do the work? It could be because you are ill, or want to take a vacation, or for any other reason. But the question of substitution is not as cut and dried as you might think. The landmark Drangonfly case ruling in 2008 deemed that the right of substitution alone may not be sufficient to consider an engagement as falling within IR35. You can read a summary of that case here and the HMRC view here.

Advised by non-specialists

A contractor may naturally accept the advice of an accountant as being a competent professional. And indeed the accountant may well provide a superb general service. However, there are many cases of “But my accountant said I was inside IR35” when an unfortunate contractor is faced with large bills for unpaid tax and penalties. You, and you alone, are responsible for getting your IR35 affairs in order.

So, there you have five of the most common mistakes that other freelancers have made.

You chose to be a freelancer because the benefits are significant, and not just in terms of lower tax paid. It’s a good lifestyle that most of us enjoy and appreciate. It’s worth preserving and the first line of defence is ensuring your contact and terms of engagement meet IR35 requirements. Take IR35 seriously and do your utmost to ensure that you have sufficient proof that you are truly operating a business rather than being a “disguised employee”.

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